At last there seems to be a little light at the end of the tunnel for dairy farmers – but be careful because it might just be the bank manager coming the other way with a torch!
The majority of dairy farmers have needed extra support from their bank to survive the last 12 months and with the odd notable exception and occasionally with more difficulty than might have been expected, the banks have been very supportive and should be recognised and applauded for such.
However, both borrower and lender will have learnt some important lessons during the process that will help the relationship when the next downturn in milk prices occurs.
For the borrowers it was a case of needing the cash to carry on farming as the monthly milk cheque was not enough to pay the bills and for the banks it was a case of trying to support those farmers that they thought had a long term future in milk production. I am sure there were some situations where the banks and borrowers disagreed about whether or not the farm had a long term future – and I am also sure that the banks were supportive of some where they thought that the best way existing borrowing would be paid back was to keep the farm going long enough for it to come out of the downturn before “asking for” the money back.
Now that the concept of milk price volatility is firmly (and bitterly) entrenched with no part of the supply chain apparently that enthusiastic to do anything about it in the future, some very clear business lessons have come sharply into focus:
- Whatever the milk price, it is the producer with the lowest unit costs of production that is the best off,
- In times of poor milk price, more cash will be needed and so borrowing facilities will need to increase, and critically…..
- In times of better milk prices there will be a cash surplus and that is when the extra borrowing taken on in the downturn must be repaid to make sure the business is able to access extra support again from its bank.
It is that last point that worries me most – at what rate and when will the banks want the extra money back? Not only are they obviously entitled to it, but both borrower and bank will be better placed for the next downturn to be able to ask for and provide (respectively) the extra support that will inevitably be needed. If the extra borrowing from the downturn is not repaid, it is likely that the bank will not have the flexibility to support (on the basis that if they do they will simply be entering every downturn with more borrowing in place which is clearly unsustainable).
So the critical questions of the bank over the next year are by how much and by when does it want the borrowing repaid? Ideally this is a question that the borrower will have the answer to before the bank has a chance to reply – it is in the farmer’s interest to know the answer rather than pretend or assume it doesn’t matter. It can very easily be worked out once unit costs of production are known.
I have no doubt that the mainstream banks all want to support dairy farmers in the long term but that cannot be interpreted as universal support in principle for the next downturn. This is not about being unnecessarily pessimistic, it is about making sure the better price years are used prudently to make sure that the lower price years can be coped with.
So while pleased that our dairy farming clients are at last seeing some relief from the awful last 12 months, it is a word of caution to recognise that the bank manager is going to be asking some important questions about the future of the business, its borrowing needs across the whole milk price cycle and what level of debt needs to be repaid before the business runs out of cash again. Hopefully both parties will then be much better placed when the relationship is properly tested again.
Please get in touch with Pat Tomlinson if you would like any further information or advice on this matter.